Thinking of becoming a landlord...

[Greenbeard]

My wife and I would like to downsize our house in 6 years when our kids are in college.  I'm seeing some great deals on nice houses in areas we like.  I'm not ready to move yet, so I'm thinking I could buy a house and rent it until we're ready to move into it.

This seems like it would be great for a lot of reasons.  Interest rates are low, prices in this area are still kinda low, renting the house for 6 years will build some equity in the house and lock in today's prices.

The house we're looking at now is a 3 bedroom 1 bath and a garage.  It's listed at $249,900.  The kitchen and bathroom need updating and the floors need refinishing.  I'm am very confident I can do those thing, I've done them many times.

For reference, there is another house for sale 3 houses down.  It's been updated but it has no garage and it's listed at $310,000.  Many houses around this one have large additions and are priced in the $400k range.

From what I can gather, rent for this house would be about $1800.  This is about what the monthly mortgage + taxes will cost at 4.5% (taxes are $4884 annually)

I feel like the rent is too close to the carrying costs.  There are very few houses for rent in my town so it's hard to gauge what the real rent might be, or what the occupancy rate would be.

Is this house even a candidate for renting?

[zinethstache]

for SFH as an investment you need 20% down, thats more like just under $1500 PITI at 4.5% (I guessed on the insurance). Do you have that much to put down?

Its close, I think you would eat up any profit keeping it running until you are ready to move in. I would never buy it at a loss, but would consider it if its break even or a little profit if my intent is to move in later. But you are hedging on everything going up in price and that you won't change your mind, and that's a gamble.

[Greenbeard]

zinethstache,

Yes, we can put 20% down. 

And yes, I am betting that things will go up in price and that interest rates will increase.  However, I'm also confident that I can put some sweat equity into the house for some good gains.  So it's possible that if we changed our minds we could still make a profit on the house.

We have a great Re-Store in our area with second hand and surplus building supplies.  I've put in like-new kitchens for $3500 by buying from that store.  I renovated an entire bathroom for $1000.  If I did this kitchen and bath, plus refinished the hardwood floors I think the house would be worth about $320,000.  It would take me about 2 months, working part time.

I'm considering flipping it as well.  I toyed with the idea of doing the renovations then putting it up for sale and for rent and see which happens first.

[MKinVA]

It's not a good bet for rental, but that's not quite what you are doing. First, run the scenario as a retirement investment. Is this where you want to live? Is the market in your area really telling you to buy now or else? Is the price on the other house that sold market value?

I would be inclined to flip it if it really is priced that far below market and you can fix it up yourself. The profit would probably be a better bang to your retirement savings. The thing about garages, if the rest of the neighborhood has them, it's worth something. If yours is the only one, it doesn't really translate into the price, but might get your house sold faster. Know what I mean?

When you buy to flip, you always have to have possible rental as a fall back position. Make sure those numbers work. Buying a rental for long term income doesn't start with the rent only covering costs. Rent can be increased, but so will taxes and upkeep.

[Greenbeard]

I'm going to look at the house today.  I'll see if it's something I can flip.  It's not a great time of year to do a short term flip though.  I'd probably be done with the renovation in December.  Then I'd have to put it on the market in the middle of New England winter, a notoriously slow time for real estate, and the carrying costs would include heat.

Buying a rental for long term income doesn't start with the rent only covering costs. Rent can be increased, but so will taxes and upkeep.

So would you say that unless the rent is greater than costs from day 1 then it's a bad rental investment in general? 

[MKinVA]

Basically, yes. Any fixing up you do probably is not going to translate into substantially higher rent unless the thing is a complete wreck and unrentable. Your rent increases can only keep up with the market because the tenant will go elsewhere if the rent is too high. So if you look down the road say five years, how much will it be costing you and how much will you get in rent? The ratio you have now is probably not going to change significantly over the next few years so all you have accomplished is someone else paying your costs until you move in.

[Greenbeard]

This is a great discussion...

So I'm doing some reading and looking at the "rules of thumb".  50% rule, 2% rule and 70% rule.

50% rule of rental says this house is nowhere near a good rental.  Rent in this area would be about $1800 so expenses would be half that, or $900.  $900 + my projected mortgage of $1500 is $2400.

To make this a good rental, by the 50% rule, I'd have to pay around $100,000.  That's not possible in this area, period.  Even stretching the rule a lot, I don't think there's a house in this town that would meet that criteria.  Perhaps that's why there are almost no rental houses in my town! :)

Let's look at the 2% rule.  Monthly rent $1800 / 2% = $90,000.  Again, not properties in my town are that price, period.  Not even close.

Ok, let's look at flipping

The 70% rule says multiply the projected sale price after renovations by 70%.  I think conservatively I could get $320,000 for the house, but I will check with my mother-in-law (my realtor).  $320,000 * 70% = $224,000.  That's my target offer if things look good today and my sale price estimation is correct.

I'll keep you posted.

[MKinVA]

Good luck! I hope it passes the test on a flip.  As an aside, be cautious about the 2% and 50% rules. Those are good filters used by real estate investors to quick test multi-family properties where the property is rentable, as is, at the market rate.

[CatamaranSailor]

Just out of curiosity, is your primary house paid off? Could you skip the mortgage and just pay cash for the rental? I will admit I am ultra conservative...but the numbers you're giving would scare me personally. Too close to the edge and if things go south (either with renters or the market) things could turn bad quickly.

Why not sell your current home, purchase this house and do all of the work on it while you're living in it. Keep it for 2 years and then sell it to buy your smaller downsized "Kids-Are-Out-Of-The-House."

That way, you have no tax liability, you don't have the headache of being a landlord and you're building equity through your own labor.

Just a thought....

[Greenbeard]

I have the means to buy the second house cash, but whether or not you pay cash doesn't change the equations.  That's because I make 9% on my investments, if I tie that money up in a house that's not returning 9%, I'm losing money.  Having no mortgage certainly reduces risk, but as is usually the case, reduces reward.

I've also thought of selling my current home and moving.  This new house would be a snug fit for my family though.  I could possible add a bedroom and bathroom and be more comfortable.  My wife an I have that idea on the table for sure.  Three teenagers and one bathroom is a no-go, period.

My current home is on the big side.  But I built it up myself.  It was small when we moved in.  So there's some sweat equity there to be recovered.

[Greenbeard]

We looked at the house last nice.  Good bones, great neighborhood.  Lots of potential.  I did a bunch of calculations last night and determined that it could work as a property to flip, but not to live in or rent.  I determined the highest price I was comfortable with spending, giving me plenty of room for profit, even if I had to carry the house through next summer before it sold.

I called the realtor to make an offer and it turns out there were 6 offers on the house.  One accepted already (house was listed 5 days ago).  My offer is really low and I'm not interested in a bidding war.

It will be interesting to see what the new buyer does.  I'm hopping they plan to flip the house too so I can watch and see what happens.

I now have a spreadsheet that I can use to assess a potential investment property, so that's good.  Guess I'll keep watching the market.

[MKinVA]

Sorry it didn't work out, but it was a good lesson. Now you know how to run the numbers and evaluate a property. Just keep working it and stick to the numbers.

[JT]

Just as an aside, do you think you could enjoy being a Landlord?

I've recently rented a flat and had 1756 views of the property online within the first 5 days and more than 40 people through on the first open home.

I interviewed 4 groups, checked references for all 4, made an offer to 2 (not at the same time - the first offer had already accepted somewhere else), and then got the bond paperwork organised, the rental agreement paperwork organised, interviewed the accepting tenants twice, went through with the tenant for the property check. I'm now just checking the rent goes in every week and sending out a confirmation email when it's received.

So far, so good.  You sound organised (with your spreadsheets and knowing you don't want an offer war), so I'm sure landlording wouldn't present much problems.  But, like you say, if you're getting 9% on your other investments, you'll suffer from opportunity cost if you bought a house where the numbers didn't add up.

It was great going through your post.  All the best.